Monday, October 6, 2014

Minimizing Risks in Defined Pensions - Theirs, That Is...

My parents used to love watching Hitchcock films.As soon as the movie began, they’d try to be
the first to spot Alfred embedded in his film, and then they’d put all of us in
the same kind of plot situation and discuss how we’d react as a family.Thank goodness I was too old to watch Psycho with them, but I clearly remember
Lifeboat; John Hodiak trying to
decide whom to shed and whom to keep.Being chubby, I remember offering my reason to stay on board our imaginary
family raft in tossing seas.“I won’t
have to eat much for a long time, “ I offered.Stern Captain Dad and First Mate just stared and smiled…

It’s much that way in the private world of pensions
nowadays, only the situation is hardly imaginary.In fact, castaway pension plans are readily
around in all areas: public pensions, private pensions and even the work of pension
investment firms.In the world of
business, anyone in a pension is someone who “eats too much” or certainly diverts
necessary funds that would be better appreciated as profits.

And, when private world collides with public worker
pensions, what begins as confusing can become quite disastrous…for retirees.

One means of removing the “extra baggage” of an obligation
like a pension for retired workers nowadays has become a strategy called
“de-risking.”Some companies, especially
larger ones like huge telecommunications giant Verizon, is to move all pension obligations
to an annuity through an insurance company.This is a win-win for the company because the insurance company
purchases the entire pension obligations at a price determined by the
actuarially determined likelihoods.In
other words, National Insurance assumes your $100 million pension obligation
for $80 million, because they anticipate having to pay out only $68 million after
running the numbers on your retirees.The insurance company stands to win $12 million in the transaction.Your company is able to unload nearly $80
million in obligations and add that windfall to the income line of the ledger,
making the stockholders adore your business acumen.In short, one company receives a way out of
promised obligations; the other bets on the odds of people dying before
collecting.

Of course, those retirees uncomfortable with the idea
are problematic, so these same companies provide a lump sum payout for the
fiscally squeamish.According to a
recent article in AARP Magazine, this two-pronged strategy is in vogue in the
private world, where “58% of companies offered lump sums to former employees or
a plan to do so.”Another “38% expect to
transfer pension obligations to an outside agency within the next five
years”(http://www.aarp.org/work/retirement-planning/info-2014/retirees-pension-plan-change.html).

And the companies have reasons beyond
the profit margin: since the Great Recession, mandatory payments to the Pension
Benefit Guaranty Corporation (to provide pension payments in case of company
default) have escalated – with more companies defaulting – and returns on money
invested for pensions have lessened.

“This transfer began in earnest in 2012 when changes to
pension law fully kicked in, making it more attractive for employers to offer
lump sums… A rash of companies made cash offers that year, including Ford Motor
Co., J.C. Penney, Lockheed Martin Corp. and Archer-Daniels-Midland Corp.

“Retiree
advocates are concerned. Traditional pensions have been disappearing for years
in the private sector, where only 16 percent of workers were covered last year,
down from 35 percent in the early 1990s, according to the Bureau of Labor
Statistics. This latest trend, though, leaves retirees without valuable federal
protections and increases their chance of outliving their money, particularly
if they take a lump sum and don't invest wisely.” (http://www.aarp.org/work/retirement-planning/info-2014/retirees-pension-plan-change.html).

But
even if private business retirees were to take the leftovers of PBGC, the amounts
of the annual benefit is capped when the employer goes bankrupt.The maximum annual benefit is just over
$59,000, BUT no other benefits are provided – not health or cost of
living.

Things
in the private world are harsh, but as retirees in a public service sector
position, we need not worry about the PBGC coming to our rescue, in case
Illinois’ Protection Pension Clause is ignored or over-ruled by the Illinois
Supreme Court: They won’t.

Because
the municipals and the states did not need pay into the pension insurance
program for those of us in the public sector (just as they did not need pay
into social security), we cannot claim a loss to the PBGC if we were to lose
our pensions.The state’s having waived
sovereign immunity when it comes to obligations and promises, one might ask
what would cause such a bleak scenario.On the other hand, the recent pronouncement of would-be governor Rauner
that he would immediately move current pubic employees to a 401K program (and
thereby stop further funding of pensions) certainly raises that scenario for
union leaders and business people alike.

Sadly,
it takes only a quick north to see how such a catastrophe might play out on at
least the municipal level.According to
an enlightening article in the Detroit Free Press entitled “Pension Safety Net
Will Not Help City of Detroit Retirees,” journalist Susan Tompor warns that the
city already inured to the many failed manufacturing businesses and the
intervention of the PBGC to assist as best it can; the same is out of the
question for teachers, firemen, and police.

“As we hear more about the
prospect of a Chapter 9 bankruptcy filing for the city of Detroit, it is key to
understand that the PBGC will not be a safety net for those retirees. It’s just
not in the PBGC’s wheelhouse.

“The PBGC also insures 915 ongoing pension plans sponsored by
Michigan companies, covering more than 1.5 million people. But again, not
municipal workers.

“The PBGC was created by
the Employee Retirement Income Security Act of 1974. It does not receive money
from taxpayers. Instead, it collects insurance premiums from employers that
sponsor insured pension plans, earns money from investments and receives funds
from pension plans that it takes over.

In addition, closer scrutiny of Rauner’s plan
to switch to a defined contribution plan bears more thorns than fiscal fruit according
to the Director of the Illinois Retirment Security Initiative, Ms. Bukola
Bella.

“Some state legislators
want to change Illinois’ current defined benefit system to a defined
contribution system that will cost more to implement and produce lower
benefits. Estimates of that change alone will cost taxpayers $275-$610 million
per year (in administrative costs) if all current participants in the five
Illinois state pension systems are covered by this change.”And while Ms. Bella argues accurately that
401K;’s are simply supplemental savings instruments, not retirement plans, her seminal
dispute is revealed in the additional costs of such a shift and persistent
expenditures.

“In fact,
both Nebraska and West Virginia experimented with shifting from a defined
benefit system to a defined contribution system and shifted back. The reason –
simple. The investment management fees, record-keeping fees, educational
programs and other administrative line items associated with a defined
contribution system were substantially greater than the cost under the old
defined benefit system. The failed defined contribution system didn’t provide
enough income to live on and both Nebraska and West Virginia experienced former
state employees having to go on welfare.

"It's true..I'll drive 'em nuts.."

“The National
Institute for Retirement Security reviewed this issue and made a very clear
finding, “for any given level of benefit, a defined benefit plan will cost less
than a defined contribution plan. This makes defined benefit plans, in the
language of economists, more efficient since they stretch taxpayer, employer
and employee dollars further in achieving any given level of retirement
income.” Switching to a defined contribution plan from a defined benefit plan
will not solve Illinois’ public employee pension crisis or eliminate the $54.4
billion current unfunded liability. It will, however, cost taxpayers more money
and result in public employees having less to live on” (http://www.ilretirementsecurity.org/news?id=0007).

Finally, if and when (Gov.) Rauner’s promised
30-man group of the best and brightest minds of Chicago businesses were tomeet and determine that 401K’s were the
direction best taken in “pension reform,” who would benefit most?Likely good friends like hedge-fund manager
Ken Griffin, at least according to a recent expose by David Sirota regarding
the movement of investment strategies of public pension funds to Wall Street
friends of politicians like New Jersey’s Governor Chris Christie.And he is just one of many states to do so…New
Jersey, Rhode Island, Maryland, North Carolina, Kentucky, etc.

“Those investments are managed by
private financial firms, which charge special fees that pension systems do not
pay when they invest in stock index funds and bonds. The idea is that paying
those fees — which can cost hundreds of millions of dollars a year — will be
worth it, because the alternative investments will supposedly deliver higher
returns than low-fee stock index funds like the S&P 500.

Unfortunately,
while these alternative investments have delivered a fee jackpot to Wall Street
firms, they have often delivered poor returns, meaning the public is paying a
premium for a subpar product.

In
New Jersey, for example, the state’s alternative investment portfolio has
trailed the stock market in seven out of the last eight years, while costing
taxpayers almost $400 million a year in fees. Had the state followed the advice
of investors like Warren Buffett and instead invested its alternative portfolio
in a low-fee S&P 500 index fund, New Jersey would have had more than $5
billion more in its pension fund. In all, as New Jersey plowed more pension
money into alternatives, its pension returns have routinely trailed median
returns for all public pension systems” (http://www.nationofchange.org/2014/09/28/pension-jackpot-wall-street/).

Sirota’s final warning highlights the
most dangerous rippling effect of the current trend to extract the money of
public workers:

“That spotlights a
pernicious dynamic that may be at work: The more public money that goes into
alternative investments, the more fees alternative investment firms generate,
the more campaign contributions are made by those firms, and thus the more
money politicians devote to alternative investments, even as those investments
deliver poor results for pensioners. It is a vicious cycle whereby the
financial industry wins and taxpayers, once again, lose.”

3 comments:

The maximum amount of money guaranteed by the Pension Benefit Guaranty Corp. in 2011 was $54,000 a year for retirees over 65 with private pensions (Retirement Heist). The PBGC "pays for its operations by charging premiums to companies that sponsor DB pension plans in exchange for the assurance that the agency will take over the payments to retirees of a bankrupt company's pension" (When I'm Sixty-Four). Today PBGC is facing a shortfall.

Public and private pension plans operate according to the Internal Revenue Code. "On the accounting side, standards governing public sector plans were established by Governmental Accounting Standards Board in 1994. As with the Financial Accounting Standards Board in the private sector, GASB acts as a standard-setter but does not actually enforce compliance. However, compliance with GASB standards is necessary for the plan to receive a statement that its financial statement is in accordance with generally accepted accounting principles" (State and Local Pensions: What Now?).

It is interesting, isn't it? First Anonymous challenges you "come clean." His questions are full of innuendo and implications of retirees scamming the system. Then you, John, answer him point by point with specific facts and data. Then Anonymous (and they're always anonymous, aren't they John?) responds with, "Oh. Did I sound like I was being personal? Oh. That wasn't what I meant." And then falls back on a bunch of feelings he has. Your point by point, fact by fact response. He has nothing to say in response. And then he claims to speak for the average IL guy. Who elected him to do that? Factual answer: Nobody.- Fred Klonsky

About Me

I am a retiree, political activist, social advocate and community volunteer. I taught at Lyons Township High School in LaGrange for 34 years in the Language Arts classroom and worked as an administrator for several years. My current avocations include various community outreach and assistance programs. Having benefitted from employment in a collegial, reflective teaching environment that encouraged dedication and professionalism, I continue to seek the promotion of education at all levels as a long-term effort combining talent, perseverance, commitment, and constant professional growth - not a blind adherence to a business model of measured production.

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